An Economist Explains Why Wage Growth Is Poised To Take Off

Capital Economics' Paul
Ashworth is taking the view that wage growth is about to pick
up.

In a new research note,
Ashworth argues that "the current rates of wage and price
inflation may be unusually low, but we are becoming
increasingly concerned that the dwindling slack in the labor
market will trigger a rise in wage inflation this year."

"Barring an
unexpected acceleration in productivity growth, that pick-up
in wage growth is likely to prompt a rebound in core
inflation too," he writes.

From
Ashworth:

In our
recentUS Focus"Fed will
eventually have to hike rates more rapidly" (sent to clients
on 13thJanuary), we argued
that the rapid decline in the unemployment rate to only 6.7%
in December last year, would eventually prompt a rise in wage
inflation because the decline in the participation rate was
primarily a structural rather than cyclical shift. As
[the chart below] shows, if the historical Phillips- curve
type relationship held, then the decline in the unemployment
gap, which is the gap between the actual unemployment rate
and the estimated longer-run equilibrium unemployment rate,
would drive the growth rate of average hourly earnings
steadily higher over the next couple of
years.

Some more
reasons we may see wage growth.

—
"The jobs hard to fill index in the NFIB's small
business survey is at a five-year high and points to what
could be a fairly dramatic acceleration in wage growth this
year."

—
"From the JOLTS survey
on labour turnover, the pick-up in the job openings rate and
the voluntary job quits rate both point to an acceleration in
the growth rate of average hourly earnings."

— "Finally,
the survey evidence on future wages is also fairly clear.
There has recently been a sharp increase in the proportion of
small businesses in the NFIB survey saying that they plan to
increase workers compensation, which points to a rapid rise
in wage inflation this year."

If wage
growth grows, that could have big ramifications for core
inflation, Ashworth notes. Check out the chart:

Capital Economics

Ashworth's
position, however, is actually up for debate. Some Wall
Street minds,
like Goldman Sachs' Jan Hatzius, believe that there
actually is slack in the labor market, which will help keep
inflation super low in 2014.